10/08/2009 @ 4:00PM

The IRS Has Its Own Audit Problems

The federal government watchdog assigned to vet the Internal Revenue Service has ordered an investigation of “inappropriately issued” tax refunds that could be the result of “suspicious employee activity” by agency workers.

In a new report strongly hinting of suspected wrongdoing, the Treasury Inspector General for Tax Administration said that it had referred an unspecified number of cases to its own Office of Investigation for further scrutiny. The cases included manually issued tax refunds “to taxpayers or addresses that are different from the owner of the tax account.” There was no indication whether a criminal investigation also is in the offing.

An IRS spokesman in Washington declined comment.

Previous reviews by such oversight agencies as the Government Accountability Office have recited a litany of IRS problems with refunds, including duplicate or wrongful payments and inadequate detection of questionable or even fraudulent refund requests from the outside.

The new IG report, however, suggests that IRS employees themselves might be complicit in some activity rather than mere employees of a victimized agency. However, the report notes in a footnote “no proven cases of employee manual refund thefts” existed prior to the audit.

The 27-page report, dated Sept. 14 but only released this week, complained the IRS doesn’t keep good records on who authorizes manual refunds, which generally are those not triggered automatically by the filing of a tax return claiming tax overpayment but by an agency worker. The report declares manual refunds a “multibillion-dollar high-risk process” with “a high risk of fraud.”

From 2005 to 2007 the IRS issued 750,000 manual refunds paying out $93 billion. All but 4% of the refunds went to business filers. The IG report declared that electronic records for 58,000 refunds–one out of every 13–”did not accurately identify” the requesting IRS employee. “The lack of data to identify the requester of the manual refund reduced our ability to identify potentially fraudulent manual refund transactions,” the IG report said.

As part of a sampling, the IG asked for complete records on 851 manual refunds. “The IRS was unable to provide us with 336 (39%),” the IG report said, “The unavailability of both paper and electronic records increases the risk that fraud could occur and remain undetected.” Furthermore, the data deficiencies made it impossible “to determine if a relationship exists between the recipient of a manual refund” and the authorizing IRS worker.

In a response attached to the report, an IRS official says the 336 missing refund files were located within 12 days. Generally, however, the IRS agreed with the IG’s five recommendations for improvement–including making sure that the IRS employee authorizing each refund is listed in electronic records. The agency did not comment on the report’s hint of internal improprieties among its 90,000 employees.

In a cover letter to the report, Michael R. Phillips, deputy inspector general for audit, wrote the IRS itself requested the audit.